I’d like to shine a bright light on the ever-growing popularity of impact investing and then define the three types of investors found to have the most interest in what seems to be this relatively new (although it’s actually not) and seemingly unknown (only to the retail investor) area of the investment marketplace. Let’s hop right in.
Impact investing. First, it’s important to know that “impact investing” is merely a subsegment of a more broadly defined investment methodology known as Sustainable, Responsible and Impact … otherwise known as SRI. This is actually a relatively new set of terms or definition for the S-R-I acronym which for a long time stood for Socially Responsible Investing – and that is actually where a lot of confusion comes in when people begin to discuss SRI or impact investing strategies.
Socially responsible investing, the old S-R-I is a very exclusionary-based way of evaluating what stocks or even entire sectors one wants to avoid when building an investment portfolio. Today’s S-R-I – Sustainable, Responsible and Impact – is NOT the SRI of old. It’s SRI 2.0 … much broader in scope, much more “investor-centric” and much more advanced in its investment analysis.
There is one other letterset that I think needs to be mentioned early on – and that’s ESG. ESG may sound familiar to some – because like the acronym SRI it’s been around for a while – but the acronym for ESG hasn’t changed. ESG stands for Environmental, Social and Governance. This is not separate from SRI, or impact, it’s part of it. In fact, the best way to look at ESG is simply as the analysis component of SRI.
It’s the analysis that is performed when evaluating investment opportunities through an SRI lens. It’s the metrics that one measures – it’s the deep dive – it’s the research component. And there are more than a handful of these metrics – in fact, I think it’s fair to say there are probably upwards of about 200 “material” operational components that can be measured, analyzed and compared. Materiality is the term used for “non-financial” metrics that matter – things that have an impact on a business that don’t show up on its balance sheet.
E-S-G and its many metrics are a whole other discussion, but for the sake of understanding it a little more clearly, here’s a 30,000-foot view:
The Environmental component looks at things like a company’s waste management initiatives, its water management, a business’s carbon footprint – how the day-to-day business operations impact the environment in which it operates. The Social screens are comprised of things like workplace safety, labor practices, gender equality, ethnic diversity or product safety standards. The Governance component, which could be considered the over-arching foundational support for ESG includes things such as board independence, anti-corruption policies, customer privacy, executive compensation, political contributions, and so much more.
Ok, so why does all of this matter – why measure anything but the financials? What is most important to understand is that all of the ESG metrics – directly or indirectly – can be tied to a financial outcome. And depending on how the company addresses that particular metric, it can be a positive financial outcome or a negative one.
It could be the cost-savings that come from a company being more energy efficient or having a reduction in waste or water usage. It’s having better processes in a company’s day-to-day operations, a more engaged and diverse workforce that feels valued and is fairly compensated. It’s the liability risks that are greatly reduced because a board recognized their blind-spots that could have cost them not only financially but could have dramatically damaged their reputation with their end-customers. You don’t need to look far back to see a large well-known company that is doing damage control because of a major mis-step, or non-financial oversight that is costing them dearly in the media.
So why has impact investing and the even bigger move toward Sustainable, Responsible and Impact strategies and ESG analysis growing so fast in popularity? Why are we seeing so much growth in this segment of the investment marketplace? Its wide appeal stems from the fact that it hits three major categories of investors. In some cases, someone may consider themselves included in all three categories – but even if only one of these peaks an investors interest, it will most likely justify looking at investments through the SRI, ESG and Impact lens.
The first investor type is probably the most obvious and seems to get the most advertising messaging and media coverage around it. It’s the Values-based Investor. This investor wants alignment in their life. They want their money, the investments they choose, to be more representative and more reflective of the things that they personally value.
This could include some of the old screening-out methods, such as the avoidance of tobacco, firearms or fossil-fuels, but there is so much more that surrounds this category. It involves looking for companies that are making big strides to differentiate themselves from the peers in their respective sub-sectors of the marketplace. And doing it without sacrificing their workers well-being, their customers health, or the environment in which they operate.
Thinking along these lines, the investor would look for things that companies do, or don’t do, that are in line with their underlying interests, passions, and beliefs. Thematic Investing plays a big role for these investors – whether it’s alternative or green energy, water conservation or access and filtration, reduction in plastic usage, animal well-being – it’s really at the crux of the ESG analysis component – being able to screen your investments for very specific non-financial but material aspects of a businesses operations. Ethical standards, fair-trade practices, sound labor initiatives, gender or ethnic balanced governance – safe and healthy products, and the list goes on. Just turn on the news, these things matter to people, and they’re ultimately voting with their consumer dollars.
The second investor type that is really embracing the idea of Sustainable, Responsible and Impact investing is the astute Risk-aware Investor that understands the non-financial risks of owning a particular investment. They look through a Risk-lens when evaluating their investment options. They recognize that the added layer of ESG due diligence is just smart research. There’s a statistic out there that says years ago tangible assets were the primary driver and lion’s share of a company’s value. Today that’s no longer the case. Intangibles have grown from being about 20% of a company’s balance sheet to 80%. Shareholders are demanding more transparency and companies that want to be around for a while need to provide it.
These metrics allow them to dig a little deeper and gain a broad understanding of a company’s day-to-day operations to potentially see where there may be some hidden risks. They can discover whether a company they’re considering has primarily operations located in a coast-lying area susceptible to rising sea-levels. Might there be liability risks stemming from environmental neglect that could cost them both financially and reputationally? Are they doing enough to protect customer data or are they susceptible to a privacy breach? What about their labor practices, or their governance standards or board composition? All are now being looked at as risk factors.
These investors are looking for the tripwires or the long-term degenerative aspects of a business that will erode their value in the marketplace. They are looking for sustainable and responsible businesses that are leading their respective industries as they move forward into the 21st century. It’s an added layer of scrutiny and they want to own the best in breed in their portfolios, not the also rans.
The third investor type having an interest in SRI, ESG and Impact seems to be the fastest growing segment. It’s the Innovation-focused Investor, the investor looking for new or emerging subsectors of the marketplace that are taking conventional wisdom and old ways of doing things and advancing them, or simply replacing them. It’s the investor who is looking for new technologies, new innovative products, advancements in healthcare, education, finance, agriculture, energy, transportation.
There are some extraordinary developments going on in this segment of the marketplace – companies that are advancing the way we live our lives. Companies that are focused on making our lives easier, healthier, safer, more connected, more environmentally friendly. These companies are truly creating impact, in our lives and in the lives of so many individuals around the world that never had the opportunities they now do.
One just needs to look at the advancements in tech and in software development, the almost limitless possibilities for blockchain, smart-grid energy developments, electric vehicles, battery storage, Organic LED, and protein substitutes in ag-tech. There are some incredible things happening today, and these investors are looking through the SRI, ESG and impact lens for these opportunities in their portfolios.
Think about FinTech – financial technologies – mobile money payment systems – giving people in third world countries access to banking that they never had before. These technologies allow a woman in Uganda to start a small business. Microfinance tied in with these technologies allows a small coffee farmer in Ethiopia to become part of a bigger collective of harvested coffee beans for distribution all over the world. Real world advancement of human life with the potential for lifting billions of families out of poverty, in turn having them become consumers of additional products and services. Now that’s investing with a major impact.
One can see why this type of investing, that being the totality of SRI along with Impact, has such broad appeal to so many different types of investors. I’ve been a financial advisor for 25-years, and I’ve never seen something that has made more sense on so many levels to so many people.
If your financial advisor isn’t bringing this to your attention, they should be. And if they aren’t, ask them about impact investing. More and more institutional dollars – endowments, foundations, and family offices for the ultra-high-net-worth are now looking at their investments through these lenses – you should be too. And you can.
Take some time, learn more about it. I invite you to Sign up for our Epic Impact newsletter and follow us on our social media pages. You can also check out our Values Questionnaire on the homepage of our website and request our Seven Steps to Creating Your Personal Impact Strategy whitepaper, also on our website. If we can be a resource for you in any way, we would welcome the opportunity to serve you.
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